UNIT 3: CONSUMPTION AND SAVING

with disposable income, households can either

• consumer (spend money on goods and services)
• save (not spend money on goods and services)

disposable income (DI)

• income after taxes or net income
• DI = gross income - taxes

consumption:
household spending
ability to consumer is contrained by

• amount of disposable income
• propensity to save

do households consumer if DI = 0?

• autonomous consumption
• dissavings

APC = C = % DI that is spent
           DI

saving:
household not spending
ability to save is constrained by

• amount of disposable income
• propensity to consume

do household save if DI = 0? NO
APS = S = % DI that is not spent
           DI

FORMULAS:
APC + APS = 1
1 - APS = APC
1 - APC = APS
APC > 1 = dissavings
-APS = dissaving

marginal propensity to consumer:
Δ C = MPC     % of every extra dollar earn that is spent
Δ DI

Δ S = MPS    % of every extra dollar earn that saved
Δ DI

MPC + MPS = 1
1 - MPC = MPS
1 - MPS = MPC

spending multiplier effect:
intitial change in spending (C, Ig, G, Xn) causes larger change in aggregate spending, or aggregate demand (AD)

multiplier =          Δ AD
                     Δ in spending   

multiplier =             Δ AD
                       Δ C, Ig, G, Xn

why does this happen?
expenditures and income flow continuously which sets off a spending increase in econ.

spending multiplier can be calc from MPC or MPS

multiplier =       1                  or           1   
                  1 - MPC                         MPS

multiplier are + when there is an increase in spending & - when there is a decrease. 

tax multiplier:
when gov. taxes, the multiplier works in reverse. 
why?
because now money leaving circular flow

tax multiplier =        - MPC              or                - MPC
                              1 - MPC                                 MPS

if there is a tax cut, then multiplier is +, because more money in circular flow

1. calc mps & mpc
2. determine which multiplier
3. calc spending/tax multiplier
4. calc AD